chp9 -CAPM(include exercises)

2
9.1 THE CAPITAL ASSET PRICING MODEL
simplifying assumptions:
1. There are many investors, each with an endowment (wealth) that is small compared to the total endowment of all investors. Investors are price-takers, in that they act as though security prices are unaffected by their own trades. This is the usual perfect competition assumption of microeconomics.
11
9.1 THE CAPITAL ASSET PRICING MODEL
Deeper Discussion 1:
Why Do All Investors Hold the Market Portfolio? What is the market portfolio?
The CAPM implies that as individuals attempt to optimize their personal portfolios; At last, they each arrive at the same portfolio, with weights on each asset equal to those of the market portfolio.
3
9.1 THE CAPITAL ASSET PRICING MODEL
simplifying assumptions:
2. All investors plan for one identical holding period. This behavior is myopic (shortsighted) in that it ignores everything that might happen after the end of the single period horizon. Myopic behavior is, in general, suboptimal.
9.1 THE CAPITAL ASSET PRICING MODEL
Hale Waihona Puke simplifying assumptions:
4. Investors pay no taxes on returns and no transaction costs (commissions and service charges) on trades in securities. 5. All investors are rational mean-variance optimizers, meaning that they all use the Markowitz portfolio selection model.
7
9.1 THE CAPITAL ASSET PRICING MODEL
explain and elaborate CAPM:
1. All investors will choose to hold a portfolio of risky assets in proportions that duplicate representation of the assets in the market portfolio (M), which includes all traded assets.
2th reason:
applied to the same universe of securities (Assumption 3)
3th reason:
for the same time horizon (Assumption 2)
13
9.1 THE CAPITAL ASSET PRICING MODEL
6
9.1 THE CAPITAL ASSET PRICING MODEL
6. All investors analyze securities in the same way and share the same economic view of the world. The result is identical estimates of the probability distribution of future cash flows from investing in the available securities; Given a set of security prices and the risk-free interest rate, all investors use the same expected returns and covariance matrix of security returns to generate the efficient frontier and the unique optimal risky portfolio. This assumption is often referred to as homogeneous expectations or beliefs.
Aggregate portfolios of all individual investors, lending and borrowing will cancel out(抵消) value of the aggregate risky portfolio will equal the entire wealth of the economy. This is the market portfolio, M. proportion of each stock in this portfolio equals the market value of the stock divided by the sum of the market values of all stocks
Deeper Discussion 1:
Why Do All Investors Hold the Market Portfolio? 4th reason:
use the same input list (Assumption 6)
So, all investors will arrive at the same determination of the optimal risky portfolio, the portfolio on the efficient frontier identified by the tangency line from T-bills to that frontier
The Capital Asset Pricing Model
Chapter 9
McGraw-Hill/Irwin
Copyright © 2005 by The McGraw-Hill Companies, Inc. All rights
9.1 THE CAPITAL ASSET PRICING MODEL
8
9.1 THE CAPITAL ASSET PRICING MODEL
explain and elaborate CAPM:
2. Not only will the market portfolio be on the efficient frontier, but it also will be the tangency portfolio to the optimal capital allocation line (CAL) derived by each and every investor. As a result, the capital market line (CML), the line from the risk-free rate through the market portfolio, M, is also the best attainable capital allocation line. All investors hold M as their optimal risky portfolio, differing only in the amount invested in it versus in the risk-free 9 asset.
12
9.1 THE CAPITAL ASSET PRICING MODEL
Deeper Discussion 1:
Why Do All Investors Hold the Market Portfolio? 1th reason:
all investors use identical Markowitz analysis (Assumption 5)
measures the extent to which returns on the stock and the market move together
10
9.1 THE CAPITAL ASSET PRICING MODEL
Deeper Discussion 1:
Why Do All Investors Hold the Market Portfolio? What is the market portfolio?
4
9.1 THE CAPITAL ASSET PRICING MODEL
simplifying assumptions:
3. Investments are limited to a universe of publicly traded financial assets, such as stocks and bonds, and to risk-free borrowing or lending arrangements. This assumption rules out investment in non-traded assets such as education (human capital), private enterprises, and governmentally funded assets such as town halls and international airports. It is assumed also that investors may borrow or lend any amount at a fixed, risk-free rate. 5